Suppose Sunday’s Super Bowl contest had nothing to do with the strengths of each team in full view of fans, expert commentators, and officials on the sidelines of the football field. Rather, a “super-referee” could have decided what those fans and commentators got to see, while those officials would have no final say over the scoreboard. Instead, the super-referee would call the winner, regardless of the actual state of play.
In the football world, rules like these would be just silly; in the financial policy world, they should be unthinkable. Yet, the Federal Housing Finance Agency’s (FHFA’s) response to a Freedom of Information Act request from the Housing Policy Council (HPC) shows that FHFA may be hiding the ball when it comes to risk management at the taxpayer-backed mortgage finance giants Fannie Mae and Freddie Mac. And unlike the billions wagered on Super Bowl LX, trillions of dollars are at stake with the government’s moves in—and often carelessly against—the mortgage market.
The documents HPC received are often so full of redactions, entire pages are blanked-out. In other areas, there are very precise deletions that hide tantalizing clues about the opinions of Government-Sponsored Enterprises (GSEs) and others involved in the decision-making process. A reader might wonder at times if they are viewing some blockbuster government report on UFOs. Instead, the text reveals FHFA’s almost otherworldly obsession with imposing an alien form of “competition” on a credit-scoring universe that was already thoughtfully evolving by itself.
HPC’s information also shows that the “improved view of risk” former FHFA Director Sandra Thompson touted in reaching the dual-score verdict was disputed by key actors, including Fannie and Freddie, neither of which expressed approval for VantageScore 4.0. Here is just one sample from the 300-plus, often heavily censored pages HPC received, pertaining to Freddie Mac:
- Freddie Mac proposed approval of the application for FICO 10T, and Freddie Mac proposed disapproval of the applications for FICO 9, FICO 10, FICO Resilience Index, and VantageScore 4.0.
- FHFA has completed its review of Freddie Mac’s proposed determinations in accordance with FHFA’s regulation on the Validation and Approval of Credit Score Models.
- FHFA’s review included an independent analysis of the potential impacts of any change to an Enterprise’s credit score model. FHFA has determined that the applications for both FICO 10T and VantageScore 4.0 should be approved.
As has been written on these pages before, neither Freddie Mac nor Fannie Mae have been shy about throwing caution to the financial winds by engaging in risky new ventures that imperil taxpayers. So, when the GSEs express concerns over the viability of a dual-score system, whistles should be blowing loudly and clearly on the policy field of play. FHFA turned a deaf ear to those whistles, and deliberately chose the path of potentially greater risk to taxpayers.
The redacted documents insist that somehow the dual-score scheme will all work out for the best, but a much bigger agenda is evident in one of FHFA’s conclusions:
FHFA finds that the improved accuracy of the new models will allow the Enterprises to responsibly and sustainably expand access to credit for borrowers with less robust credit histories. In addition, requiring both score models will provide lenders, investors, and others with two different views of risk due to the differences in the models and minimum scoring criteria. Furthermore, requiring lenders to obtain and deliver both VantageScore 4.0 and FICO 10T credit scores will prevent adverse selection by the industry, because lenders will not be able to choose which score to use for eligibility or pricing. Finally, while it is difficult to foster competition in a market with a limited number of competitors and high barriers to entry, by approving the most accurate credit score submitted by each of the two applicants, FHFA is opening the mortgage market to a new competitor.
Notable in the text above is the replacement of “improved view of risk” with “different views of risk,” all of which is overshadowed by a not-so-ulterior motive of forcing the GSEs to qualify more borrowers, even those who present greater challenges to the safety and soundness of the mortgage finance system.
Taxpayers were already concerned with such an ulterior motive when an Inspector General report on FHFA’s credit score “bakeoff” released nearly two years ago also contained redactions about how the GSEs were giving input for the process. The latest Freedom of Information Act request provides even more clues that safety and soundness were not the only factors driving decisions at FHFA.
HPC’s information also shows that former Director Thompson’s promise to Congress of avoiding “unnecessary costs and complexity” in the transition to a dual-score system was already headed out the window before she even spoke to lawmakers about those issues before a 2023 hearing of the House Financial Services Committee. One section of the documents stated it plainly: “In making this decision, FHFA recognizes that replacing Classic FICO with two new credit score models will be a lengthy and costly undertaking.” Several years after acknowledging this plain fact, FHFA should be held accountable by both the House and Senate for just how lengthy and costly this “undertaking” has been and will continue to be.
This is precisely the scenario over which NTU expressed misgivings in its 2019 Policy Paper, Risky Road, where we wrote:
At any given point, public officials may decide that the increased risks of taxpayer bailout in a particular lending program are worth the gains or vice versa. But the tool to evaluate those benefits and costs should not be subject to artificial manipulation in order to depict a desired outcome. In such a chaotic environment, what would otherwise be informed, transparent policymaking becomes little more than a hyper-politicized guessing game. As history has shown, taxpayers ultimately lose at this game.
Ironically, several analyses released last year from the American Enterprise Institute, the Urban Institute, and the Milliman consultancy all affirm that the dual-score decision will likely offer only marginal benefits compared to those costs.
Add to that pile a study released just last week from Dr. Clifford Rossi of the respected firm Chesapeake Risk Advisors, LLC, which puts a devastatingly finer point on the pain to the housing economy (and taxpayers) that could be inflicted for the minimal or even non-existent gains from the dual-score “lender choice” arrangement FHFA has concocted. Using the latest, most detailed lending data, Dr. Rossi illustrated a range of financial loss and risk scenarios due to “adverse selection”—the widely-held fear that lenders would play off the dual credit scores against one another to mask the credit risk of financially tenuous borrowers and sell mortgages to the GSEs with hidden liabilities. As Dr. Rossi concludes:
It is impossible to predict the degree to which adverse selection will manifest, however, any adverse selection will lead to higher credit losses for the GSEs, more uncertainty for MBS [mortgage-backed securities] and CRT [credit risk transfer] investors and ultimately higher costs for consumers . . . Rolling out a policy that allows lenders to choose which credit score they send to the GSEs invites adverse selection and is compounded by the 14 December 1, 2025 elimination of minimum credit scores in AUS underwriting. Dropping the minimum credit score requirement puts increased pressure on GSE AUS systems to accurately evaluate borrowers that have credit histories that were previously considered unacceptable other than as exceptions to policy with appropriate compensating factors. This uncertainty over the extent of adverse selection and the timing and shape of controls to guard against that possibility poses risk to not only the GSEs but also private mortgage insurers and investors in CRTs.
Dr. Rossi’s conclusions completely shred FHFA’s bald-faced assertion, noted earlier, that a two-score system “will prevent adverse selection by the industry.” Like its intention to control costs and adhere to a gradual timeline, another FHFA promise could soon be going offside.
HPC’s Freedom of Information Act request is the latest chapter in a saga that dates back at least to 2018, when Congress enacted legislation instructing FHFA to develop a process for evaluating credit score models, leading to the approval in 2022 of two models that the GSEs could use to measure credit worthiness of the borrowers whose loans they were guaranteeing: VantageScore 4.0 and the newer FICO 10T. In a subsequent oversight hearing referred to earlier, then-FHFA Director Sandra Thompson provided reassurance to lawmakers that “FHFA and the Enterprises anticipate a multiyear transition and are committed to working with stakeholders to ensure a smooth process towards the use of the new credit score models . . . in a manner that avoids unnecessary costs and complexity.” She also touted the “improved view of risk” of having two models available to the GSEs instead of the traditional Classic FICO that had long been the standard of evaluation.
But the saga itself has many chapters written over decades. Since the 1980s, NTU has warned that taxpayers could be on the hook for massive losses from the practices of Fannie and Freddie, the two GSEs that bundle millions of mortgages into tradeable securities that provide liquidity in housing markets. In congressional hearings and other settings, lawmakers from both parties lectured us that our cautions over an implicit taxpayer guarantee of GSE practices were dead wrong, and that investors would cover any losses if Fannie and Freddie made bad bets in how they did business. Our theories became stark facts in 2008 when the housing bubble collapsed, the economy deflated with it, and taxpayers were left with $200 billion in Fannie and Freddie’s liabilities. The two GSEs have been in government “conservatorship” (i.e., wards of the taxpayers) ever since.
Congress created the FHFA in 2008 to replace the Office of Federal Housing Enterprise Oversight, which had grown too cozy with the GSEs it was supposed to be watching. FHFA’s mission statement, which NTU applauded at the time of its creation is: “Ensure the regulated entities fulfill their mission by operating in a safe and sound manner to serve as a reliable source of liquidity and funding for the housing finance market throughout the economic cycle.”
Note what comes first in the mission: safety and soundness. Note also what isn’t in the mission statement: “expand access to credit for borrowers with less robust credit histories” or “foster competition in a market with a limited number of competitors,” which FHFA mentions as reasons for its dual-score approach.
Hats off to HPC for exposing FHFA’s misplaced priorities, but the curtain has yet to be fully pulled back, and more fundamental problems with the agency’s mission execution may yet be revealed. That’s why HPC’s patient and persistent watchdogs have given notice that they will appeal FHFA’s selective release of information to their request:
While the credit score modernization initiative was intended to provide more accurate, inclusive, and predictive credit scores and lower costs for lenders and borrowers through the introduction of competition, there is currently no public evidence that these benefits will materialize . . . To allay these concerns, it is critical that FHFA release the cost/benefit analysis it relied on (in the Final Agency Staff Analysis Memo) to set a policy direction that would have impact across the entire housing finance ecosystem.
NTU agrees—taxpayers deserve to know the full details of FHFA’s choices.
It is time for a reset in public policy toward the use of credit scores at Fannie Mae, Freddie Mac, and other government entities involved in lending. It starts with Dr. Rossi’s recommendation of immediately suspending the dual-score decision’s implementation “until a comprehensive vetting of potential adverse effects to credit and MBS investors has been conducted.”
Furthermore, HPC’s thoughtful inquiries should be rewarded with full and open disclosure from the GSEs and FHFA about what the credit score models’ cost-benefit evaluation specified, and how it took place. The surprise decision last year from FHFA Director Thompson’s successor, Bill Pulte, to instead “allow” Fannie and Freddie-handled loans to use either VantageScore 4.0 or Classic FICO, should also be shelved, pending further transparency on how the original chain of events was set into motion.
For its part, Congress should not only revisit the implications of the 2018 law that precipitated this process, but also examine reforms to further protect taxpayers from another GSE meltdown, as well as tax and regulatory reductions to make homeownership more affordable.
Taxpayer advocates have been throwing flags on plays at both the GSEs and their supposed regulator, FHFA, for several years now. With the issues of housing affordability, a mortgage-market bubble, GSE mission creep, and FHFA’s blinkered oversight all converging on the policy field, taxpayers see a two-minute financial warning up ahead. Public officials in the legislative and executive branches should recognize this urgency as well, before the clock runs down on the chance to win for safety and soundness.